Self-dealing occurs when a fiduciary acts in their own best interest rather than the best interest of their clients in a transaction. It is a conflict of interest and an illegal act that can result in litigation, fines, and employment termination for those who commit it. Self-dealing can take many forms, but generally refers to an individual profiting — or attempting to profit — from a transaction conducted on behalf of another party.
How Self-Dealing Functions
Self-dealing can involve a wide variety of individuals who operate within the bounds of fiduciary responsibility. Trustees, attorneys, corporate officers, board members, and financial advisors are just a few examples. Self-dealing can take a variety of forms, including using company funds as a personal loan, violating an employer’s duty of loyalty to pursue a deal or opportunity for oneself, or trading on insider or non-public information. Self-dealing can take on a variety of forms. It does not have to benefit the individual committing the act directly, but can benefit another party.
Self-dealing would occur, for example, if a financial advisor advised their clients to purchase financial products that were not in their best interests (for example, were too expensive or unsuitable) in order to earn a higher commission. Several additional examples include the following:
- If a broker receives a sell order from a client but sells their own shares in the same company prior to selling their client’s shares.
- If a business partner pursued an opportunity intended for the partnership as a whole without informing the other partners.
- If a company’s officer awarded a contract to a vendor on the condition that the vendor provide an internship for the officer’s child.
- If an editor in charge of producing and managing a website outsourced certain tasks to a company they partially owned on the side at a higher-than-necessary rate without informing management.
Self-Dealing With Nonprofit Organizations
Self-dealing is expressly prohibited in the United States Code (26 U.S.C. 4941) as it relates to nonprofit organizations. The Internal Revenue Service (IRS) has the authority to assess a 10% and 5% tax on each act of self-dealing by a disqualified person with a private foundation. A person who is disqualified may be a trustee, director, officer, relative, or significant contributor to the foundation, to name a few. Loans, leases, sales, exchanges, certain types of compensation, and the transfer of assets to a disqualified person are all prohibited transactions under the rule. For additional information, the IRS’s self-dealing guide contains useful details.
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